Corporate Close-Up: Five Things to Watch for in State Corporate Income Taxes in 2017

In Chinese astrology, 2016 is the year of the monkey, a symbol of mobility and action, apt for a year setting the stage for potentially massive tax overhauls. The coming year will be symbolized by the rooster, a symbol of strength and watchfulness, which will be needed to navigate the changes looming on the horizon.

Below are five things to watch for in state and local corporate income tax in 2017, based on the panel discussions at NYU’s recent 35th Annual Institute on State and Local Taxation in New York City:  

1. Is the physical presence nexus standard dying out for good?

Due process and commerce clause challenges to states’ economic presence nexus standards continue to be struck down. In Lorillard Licensing Co., LLC v. Director, the Appellate Division of the Superior Court of New Jersey upheld the assessment of tax on an out-of-state intangibles holding company with no physical presence in New Jersey, but charged licensing fees to customers in New Jersey. Further, Ohio handed down a decision in three related cases, Crutchfield v. Testa, Newegg v. Testa and Mason v. Testa, in which the court ruled that physical presence is not required for imposition of Ohio’s commercial activities tax because the $500,000 sales threshold set forth in the factor presence nexus standard satisfied due process. (“Due Process—Significant Current Issues,” presented by Craig B. Fields of Morrison & Foerster, Michael T. Fatale of the Massachusetts Department of Revenue and Karl A. Frieden of the Council on State Taxation (COST) and “Nexus: A Review of Where We Are and Where We’re Going,” presented by Maryann B. Gall of MBGallTax, June Summers Haas of Honigman Miller Schwartz and Cohn and Brian J. Kirkell of Washington National Tax, RSM US)

2.What will be the effect of the new partnership audit rules?

New federal partnership audit rules kick in for everyone for taxable years beginning after Dec. 31, 2017, and are elective as of Nov. 2, 2015. Partnerships with 100 or more eligible partners will be audited at the partner level, while partnerships with fewer eligible partners will be audited at the partnership level. This presents a host of issues for partnerships governed by their current partnership agreements as written, especially complex tiered partnerships. Every partnership agreement across America will need to be rewritten, opined Steven Wlodychak, a Principal in Indirect Tax at Ernst & Young—a daunting task to accomplish before the end of 2017. (“State Taxation of Partnerships, LLCs and their Owners and an Overview of the New Federal Partnership Audit/Assessment Rules,” presented by Bruce P. Ely of Bradley Arant Boult Cummings, Matthew J. Polli of Deloitte Tax and Steven N.J. Wlodychak of Ernst & Young)

3.How do the states win the battle against the negative effects of transfer pricing?

The elimination and adjustment of intercompany transactions continues to result in lost revenue for states. States are attempting to combat this by adopting mandatory combined reporting regimes, but there are other ways to address these issues. States should look to their own independent Section 482 authority for an effective means of handling transfer pricing issues, suggested Holly H. Coon, the Business Audit Manager of the Income Tax Division of the Alabama Department of Revenue. (“BEPS—What It Means, Who It Touches and Where It’s Going,” presented by Joe Huddleston of Ernst & Young, Ferdinand S. Hogroian of COST and Holly H. Coon of the State of Alabama Department of Revenue)

4.Is more MTC Compact litigation coming down the pipeline?

States have continued the trend of holding that the Multistate Tax Compact is not binding on individual states. The Supreme Court recently denied certiorari in Gillette Co. v. California Franchise Tax Board, effectively upholding the lower court’s decision that the state could enforce its own statutory apportionment formula over the formula in the compact, despite California’s adoption of the compact. There are three other cases pending: Kimberley-Clark v. Minnesota Comm’r of Revenue (petition for certiorari pending with the U.S. Supreme Court), Health Net, Inc. v. Oregon Dept. of Rev. (appeal pending in Oregon Supreme Court) and Graphic Packaging Corp. v. Hegar (petition for review filed with the Texas Supreme Court). (“Review and Preview of Federal Constitutional Issues,” presented by Jeffrey A. Friedman of Sutherland Asbill & Brennan and Richard D. Pomp of the University of Connecticut School of Law and New York University School of Law)

5.Will states continue shifting towards market-based sourcing of services and intangibles?

Since 2014, nine states and jurisdictions have adopted market-based sourcing regulations, bringing the total number of states using this sourcing method to 24. As more states move towards a focus on the sales factor, the appeal of market-based sourcing increases, but uniformity has proved difficult to achieve. The states and jurisdictions using this method do not use the same definition of “market,” with some using where the customer is located, some where the benefit of the serviced is received, some where the services are performed and some where the intangibles are used. (“Apportionment Issues: Recent Developments,” presented by Hollis L. Hyans of Morrison & Foerster, Nicki N. Howard of CSX Corporation and Jamie C. Yesnowitz of Grant Thornton)

Continue the discussion on LinkedIn: What are the hot button corporate income SALT issues in your state for 2017?

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